Information about Asia and the Pacific Asia y el Pacífico
Chapter

VII. Structural Reforms

Author(s):
Erik Offerdal, Kalpana Kochhar, Louis Dicks-Mireaux, Jianping Zhou, Mauro Mecagni, and Balázs Horváth
Published Date:
December 1996
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Information about Asia and the Pacific Asia y el Pacífico
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This section focuses on the role that structural reforms have played in generating Thailand’s sustained, rapid economic growth during the past two decades. At the outset, it should be noted that the difficulty of deriving simple quantitative measures to summarize the complex nature of structural reforms makes it equally difficult to identify statistically robust relationships between growth and structural policies. Nevertheless, the weight of the empirical evidence to date supports the conclusion that reforms designed to reduce allocative distortions have had a positive impact on the level and efficiency of capital formation and on growth.

The analytical basis for comparing sequences for removing structural distortions in a second-best world is limited, but the experiences of many developing countries do suggest a few general lessons.27 First, there is broad consensus that, although it may not be a precondition for the initiation of reforms, structural adjustment without macroeconomic stability has typically not been successful in eliciting significant supply responses. Second, reforms must reach a critical mass to be effective. Marginal reductions in large distortions are not effective in increasing growth. Third, reforms that take a long time to put in place, such as institutional and regulatory improvements, should begin at an early stage of the adjustment process. Fourth, with regard to trade reforms, programs that begin with a substantial initial effort—involving the early elimination of quantitative restrictions and major tariff reductions—typically prove more successful in increasing growth. In addition, tariff reform is more likely to be sustained if it is supported by domestic tax reforms and, more generally, fiscal restructuring. Fifth, severe financial repression is inimical to the level and efficiency of investment and to growth, and it should be eliminated as rapidly as possible. Sixth, the primary objective of public enterprise reforms should be to improve efficiency, and this objective should not be overshadowed by the goal of generating (onetime) increases in fiscal receipts.

The story of structural reform in Thailand is very much one of gradual changes in a system that, in most cases, began with relatively small distortions. In some respects Thailand’s structural reform efforts conformed with “best practices,” while in others they did not. The almost uninterrupted maintenance of macroeconomic stability helped to offset the effects of the slow progress with structural adjustment. Moreover, the authorities generally took a pragmatic approach to structural reforms—when specific problems arose or when the effect of distortions became particularly acute, steps were taken to redress them quickly.

Financial Sector

The Thai financial system at the beginning of the 1970s was, in many ways, similar to that in many developing countries. The financial system was dominated by a small number of commercial banks with a high degree of concentration of ownership, and foreign banks played only a limited role. Interest rates on lending and deposits were subject to ceilings. Selective credit programs were used to allocate credit to “priority” sectors, the market for long-term capital was not well developed, and informal credit markets existed. Although the capital account was relatively open, especially for inflows, capital outflows were closely controlled. Banks were required to hold a certain proportion of their deposit liabilities in the form of government securities, but interest rates paid on government debt were positive in real terms.

Before the early 1990s, financial reforms in Thailand were not implemented according to any comprehensive blueprint, but rather in response to specific problems or circumstances. For example, during the first half of the 1980s there was a string of financial crises stemming from failures of finance companies and banks. Steps were then taken to strengthen bank supervision and deal more decisively with weak financial institutions. Likewise, the authorities recognized that interest rate ceilings and limits on capital outflows had become increasingly inconsistent with the rapid industrialization of the Thai economy. Thus, in the early 1990s, interest rate ceilings were lifted on a range of deposits, domestic banks were allowed to offer foreign currency deposit accounts, and capital outflows were substantially liberalized. However, the early 1990s saw a marked shift in the financial sector reform strategy toward a more coordinated and comprehensive package of reforms. Further liberalization took place in 1992 with the elimination of ceilings on lending interest rates.

Despite the lack of a comprehensive approach during most of the period, the indicators of financial sector development shown in Figure 12 suggest that initial distortions were not severe and that considerable financial sector development has taken place over the period under study. Real interest rates remained positive through most of the period, despite ceilings on nominal rates, suggesting that financial repression was not significant. The spread between deposit and lending rates was quite wide during most of the period but remained stable.28 Since the early 1990s, this spread has narrowed significantly. The depth of the financial sector—proxied by the ratio of broad money to GDP—has risen steadily over this period and reached over 70 percent by 1992–93. The private sector’s share of total credit has also risen, particularly since the second half of the 1980s, reflecting the decline in the government’s claim on financial resources as a result of fiscal adjustment. On balance, the Thai financial system has been conducive to efficient financial intermediation and has supported the rapid growth in private investment in recent years.

Figure 12.Financial Sector Indicators

Source: International Monetary Fund, International Financial Statistics (various issues).

1Ex post real interest rates, adjusted for consumer price inflation.

Trade Reform

The Thai economy has traditionally been outward oriented; at the same time, however, there has been a fair degree of government intervention in the trade system. The main instrument of intervention has been tariffs.29 The system of protection was biased against the agricultural sector and agro-based and labor-intensive manufacturing, and toward mostly capital-intensive import-substituting industries (automobiles and pharmaceuticals). The labor-intensive textile industry was also heavily protected.

Recent studies by Bhattacharya and Linn (1988) and Dean, Desai, and Riedel (1994) of the protection systems of East Asian countries found that Thailand’s average nominal tariff rates were among the highest in the group, but that the coverage of non-tariff barriers was relatively low. The studies conclude that the protection system in Thailand in the mid-1980s was broadly comparable to that in the Philippines and Korea.

Table 12 presents data on overall tariff rates and effective protection by sector and shows that little progress was made during the 1980s to reduce tariff protection. In part because of fiscal constraints and the need for revenues, only minor tariff reductions were implemented during this period (Figure 13).

Figure 13.Trade Taxation and Openness

(In percent of GDP)

Sources: International Monetary Fund, International Financial Statistics and Government Finance Statistics Yearbook (various issues).

Table 12.Tariffs and Effective Protection(In percent)
September 1981March 1983November 1984April 1985January 19881993
Nominal tariffs
Unweighted average31.032.629.933.830.2
Standard deviation30.128.626.327.3
Weighted by import value
Total14.316.215.318.512.010.0
Consumer goods25.022.620.724.816.0
Intermediate goods13.215.714.514.18.1
Automotive goods36.540.441.363.028.1
Capital goods14.118.017.422.36.9
Raw materials2.33.22.95.16.3
Effective rates of protection
Unweighted average66.766.459.065.964.6
Standard deviation140.2140.4131.3132.0131.4
Weighted average27.927.925.530.029.7
Agriculture10.911.311.013.213.1
Agroprocessing24.730.328.732.832.9
Other manufacturing53.650.244.551.95I.2
Textile products110.461.155.559.959.9
Chemicals49.354.046.79.29.5
Consumer goods and motor vehicles51.554.648.370.068.7
Sources: IMF, International Financial Statistics (various years);World Bank staff estimates; and IMF extimates.
Sources: IMF, International Financial Statistics (various years);World Bank staff estimates; and IMF extimates.

From the early 1990s, however, as the fiscal position strengthened and as the accumulation of international reserves intensified, serious attempts began to reduce and rationalize tariffs. Import-weighted average import taxes declined from 14 percent in 1986 to below 10 percent in 1993. Moreover, significant progress has been made in export taxation, which was concentrated in the taxation of rice exports. More recently (in early 1995), a program was launched to introduce tariff reductions over the next two years, at the end of which the average (unweighted) nominal tariff would decline to about 17 percent.

Clearly, Thailand’s trade reform program during most of the period under review did not follow “best practices.” The program did not begin with a substantial initial effort, in part because weaknesses in public finances acted as a constraint to more rapid tariff reforms. However, the slow progress with trade reforms did not have a dampening effect on long-term growth in Thailand because the trade system was not, in the first instance, so distorted as to have resulted in serious disincentives to export activities. The lack of a black market premium on the baht, in addition to being a result of the relatively open capital account (particularly for inflows), can be seen as one indication of the low level of overall distortions in the system.

Public Enterprises

The importance of public enterprises in the Thai economy increased during the phase of public sector expansion in the late 1970s and early 1980s. The ratio of public enterprise revenues to GDP rose from about 10 percent of GDP in the early 1970s to almost 18 percent by the early 1980s; it has since fallen slightly. Public enterprise investment rose from 1.7 percent of GDP in 1970 to about 3.5 percent of GDP in the 1981–86 period. By the mid-1980s, public enterprises accounted for over 70 percent of total public sector investment and about two-thirds of public sector external debt. In 1995, total public enterprise assets stood at over 50 percent of GDP. Of the 57 public enterprises, the largest in terms of assets and employment are public utilities, transport and communications companies, financial institutions, the petroleum company, and nonprofit institutions. In 1993, public utilities accounted for 42 percent of public enterprise assets, 85 percent of public enterprise capital expenditures, and two-thirds of employment.

Compared with other developing countries, however, the sector plays a small role in the economy and has largely been restricted to the provision of transportation, communications, and public utilities. For example, on average since the early 1970s, public enterprise investment has accounted for about 10 percent of total investment, compared with 20 percent in the Philippines, 33 percent in India, and nearly 40 percent in Turkey.

With the renewed commitment in the mid-1980s to streamlining the activities and increasing the efficiency of the public enterprise sector, public enterprise capital expenditures as a share of GDP declined to 2.7 percent between 1987 and 1989. However, little progress was made in privatization during this time. The large capital needs that have been projected for the coming years to address the serious infrastructure bottlenecks that have arisen in recent years have led the Thai authorities to seriously consider privatization, including in the provision of infrastructure services. The alleviation of these bottlenecks has also necessitated an increase in public capital expenditures, to an estimated average of 6 percent of GDP between 1990 and 1993.

In overall financial performance, the public enterprise sector in Thailand is profitable. Before-tax profits of the sector, as a share of GDP, have averaged between 2 and 3 percent, and the rate of return on the asset base has averaged about 5 percent. The main loss-making enterprises are in the transport sector (mass transit and railways), where prices are subject to controls.30 However, these losses have been relatively small—they amounted to less than 1/10 of 1 percent of GDP annually during the period under consideration. The most profitable public enterprises are the public utilities, which have significant monopoly power.

The basic conclusion is that, as with the other areas of structural reform discussed above, the “best practice” strategy may not have been followed, but initial distortions were relatively small and thus have not acted as a drag on long-term growth.

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